Sunday, April 04, 2004

What matters

Reader DR sent in a link to a New York Times article that wonders if expensing options would have lead to 1) no 90s bubble, 2) less corporate fraud, 3) no federal deficit, 4) lower corporate debt, 5) the elimination of all vice and promotion of all virtue (just kidding about that last one!) Looking ahead to the article moving into archives, here is it in summary excerpt

The stock market bubble might have been less severe. The wild swings in federal budget deficits might have been reduced. Companies would owe a lot less money. Less wealth would have been transferred from shareholders to managers, but then perhaps less paper wealth would have been created. Richard A. Grasso might still be running the New York Stock Exchange.

All that might have happened if American politicians, a decade ago, had not forced the Financial Accounting Standards Board to back down from its proposal to force companies to record as a compensation expense the value of stock options given to employees.

I think I've gone on the record on this site to say that options should be expensed because, well, they are an expense. They reduce earnings per share by increasing the number of shares (diluting what shareholders currently have), not by reducing earnings, but that does not make them any less expenses.

I think it's also important to note that we have seen speculative bubbles long before there were options, and we continue to see speculative bubbles today. Neither Dutch tulip farmers once-upon-a-time, nor anyone buying real estate today, is remotely connected to options and yet are buying into a market that is seriously overpriced.

I have also tired about hearing poorly informed statements regarding the federal deficit, but since we are on the subject of shoddy accounting, I'll take a moment to get a few things off my chest. The fact is that the government uses cash accounting to measure its deficits -- that is, it looks at the difference between cash coming in (through taxes) and cash going out (through spending) to calculate whether it is running a surplus or not. But it is obvious that this is a useless way of looking at a government's fiscal position because they have made commitments far in the future, and the cost of those commitments should be accounted for. Here, I'm talking about social security and Medicare -- two entitlement programs so large that they dwarf whatever paltry "deficit" or "surplus" that blips around the cash accounting system the government uses today. IIRC, in the US, the government's obligation to its elderly stands at around 100% GDP -- how's that for deficits? (By contrast, the cash deficit right now is about 5% GDP). For other countries, it is even worse. The Economist ran an excellent survey of retirement last week, which I would recommend to everyone.

The point is that I don't want to hear anyone complaining about the deficit unless they immediately begin to list ways of taking things away from old people and making them work harder and longer. Otherwise you aren't really bothered by the deficit at all.